THE ULTIMATE GUIDE TO Exemption Certificates for Sales Tax Compliance
Contents Introduction ................................................................................................................................................. 1 The Exemption Certificate Challenge ............................................................................... 2 The Basics of Sales Tax Exemptions ................................................................................... 3 When Exemptions Get Complicated .................................................................................. 4 Best Practices for Managing Exemption Certificates ...................................... 5 Soliciting and Capturing .............................................................................................................. 5 Validating and Tracking ................................................................................................................ 6 Storing and Systemizing .............................................................................................................. 7 Automating Exemption Certificate Management ................................................ 8 Conclusion ..................................................................................................................................................... 8 To learn how Avalara CertCapture can help streamline and simplify the exemption certificate management process, visit certcapture.avalara.com or call 844. 722.5748 The Ultimate Guide to Exemption Certificates for Sales Tax Compliance
Introduction Achieving sales tax compliance in One of the most problematic parts of the compliance process is properly collecting, validating and storing today’s complex environment is no exemption certificates. This highly valuable tax compliance documentation is the proof you need to easy feat. There are changing rates to support non-taxed sales. These certificates can be the calculate, evolving requirements to di ff erence between a costly assessment and a smooth, seamless audit. monitor and a wide array of exemption certificates to manage. Companies Unfortunately, properly documenting exemption and resale certificates can become incredibly complex must handle every step correctly, and when numerous states, entities and variables like each one is riddled with potential nexus and drop shipments come into play—not to mention the challenges of properly storing pitfalls. certificates if your business still relies on paper-based filing systems. Thorough and accurate exemption certificate management requires input from various departments; tax analysts, credit managers and IT departments all play important roles in the process. To achieve and maintain sales compliance, it’s critically important to understand how exemption certificates work, when to collect them and what steps to take so they remain valid and up to date. In this guide, you will learn how to: Identify the correct certificates for various states and entities Determine which exemption certificates to use in di ff erent transactions Solicit the correct certificates in a timely and customer-friendly way Automate manual and paper-based processes to streamline certificate management Integrate exemptions certificates with other software and solutions 1
The Exemption Certificate Challenge Before establishing a new exemption Many of these organizations think they’re fully to get numerous employees involved in validating an documented, organized and adequately prepared for exemption status at the point of sale, or they might certificate management process, it’s a sales and use tax audit. Often, it’s not until the audit be tempted to let the lack of a valid certificate slide in notice arrives that a company will realize it should favor of a verbal agreement that one will be provided important to be aware of potential have had a better process in place to safeguard against after the tax-free transaction is completed. pitfalls. Countless businesses spanning invalid or missing exemption certificates that increase liability. Lastly, there are the challenges inherent to numerous industries stand to be homegrown automation solutions. Unless an IT impacted by improper management The first and most common cause of this pain is the team has both the capacity and specialized skillset to method of storage: While virtually no business still continually code integrations as your business grows, of exemption certificates this year: relies on pencils and calculators to manually calculate automating the process in-house can be an arduous retail stores, eCommerce sites, or file taxes, the same is not true of the tools used to and costly undertaking. manage compliance documentation. Many companies manufacturers, wholesale distributors, still use filing cabinets, palletized boxes and o ff -site Waiting until an audit notice arrives to correct these fuel suppliers...and the list goes on. storage to manage hard copy documents in systems problems is bound to ensure compliance issues. that make it di ffi cult to produce valid customer The sooner you begin to streamline and simplify the exemption certificates on demand during an audit. exemption certificate management process, the lower your audit exposure will be. As an added benefit, many Meanwhile, credit managers and sales associates companies find that exemption certificate e ffi ciencies face the stress of customer service issues when valid also lead to decreases in customer service issues and exemptions or fillable certificates can’t be produced increases in loyalty. in a timely and e ffi cient manner. They may be forced While many companies recognize the need for an e ffi cient exemption certificate management process, nearly half (48%) of accounting 48 % professionals in the U.S. believe an auditor would likely find mistakes like missing or incorrect compliance documents in the event of an audit. Source: Wakefield Research Report 2 The Ultimate Guide to Exemption Certificates for Sales Tax Compliance
The Basics of Sales Tax Exemptions When is a sale tax exempt in the U.S.? Generally speaking, there are three main scenarios where a transaction can take place without sales tax having to be collected: The buyer is tax exempt by law. Examples could include government agencies, schools, nonprofit charities and hospitals. The type of transaction is tax exempt. The buyer is using the goods in a manner that is exempt, such as reselling or incorporating it into another product. These transactions are exempt when properly documented by an exemption certificate. The product itself is non-taxable. This is often the case with certain types of food, medicine and services. Each state has its own set of rules on how to handle tax exemptions in each of these categories. Achieving compliance requires identifying the correct certificates—a task that is ultimately the responsibility of the seller. If a valid certificate cannot be produced, the purchase should be taxed or the seller will risk becoming liable for uncollected taxes in the event of an audit. Did you know? The average cost of an audit is more than $114,000. Source: Wakefield Research Report 3
When Exemptions Get Complicated Many companies, particularly ones that deal with eCommerce and resale, face two common hurdles to overcome when transactions take place in more than one state: Nexus Drop Shipments When tax-exempt sales span multiple states, the Sometimes, a seller will accept an order for a product exemption certificate process is impacted by nexus. it doesn’t actually carry. To get it to the customer, the While each state takes its own approach to this seller places an order with a third party supplier— term, nexus is generally defined as a “presence” in a perhaps a wholesale warehouse or manufacturer— state that’s significant enough to require a business and directs that company to deliver the goods on its to comply with the state’s sales tax laws. Common behalf. measurements for gauging physical presence include employees, property ownership and leases. For some If this sounds familiar, your company is in a drop states, nexus is established when a business advertises shipment relationship. Exemption certificates are very or solicits business in the state. In others, using common in drop shipments because they typically company vehicles to deliver goods establishes nexus. involve resales. However, the rules around what determines nexus in drop shipment scenarios and For example, consider a brick-and-mortar floral what qualifies as an exemption can vary greatly from retailer with several stores located in Cincinnati, state to state. It’s critically important to become Ohio. The presence in Ohio means the company has familiar with these requirements and decide what nexus—an obligation to collect taxes—and must be types of exemption certificates you will accept. registered in the state. But what happens when the florist makes the arrangements it produces in Ohio available for delivery across state lines to Kentucky and Indiana? If it begins to ship flowers to customers in Florida, will it have nexus in Florida? The answers to these questions will vary from state to state and may even change as states and courts redefine how nexus is determined. To remain compliant, it’s important to become familiar with di ff erent state rules and understand which exemption certificates are required for tax exempt sales in states where your company may have nexus. 4 The Ultimate Guide to Exemption Certificates for Sales Tax Compliance
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